“Anyone who believes exponential growth can go on for ever in a finite world is either a madman or an economist.”
Kenneth Boulding, economist

In my 45 years in the investment business, nothing was more frustrating to me than seeing the economic crisis of 2007 approaching –a “very slow-motion train wreck”, as I called it. To us investment bubble statisticians, the US housing market, which precipitated all our problems, was in a thousand-year bubble (3.5 sigma). Yet none of our financial leaders offered a clear warning and top bankers danced to the speculative music.

Now economic statisticians can calculate a much more dangerous event that is being greeted with even less concern: our world is rapidly running out of resources – of energy, metals and food. The data is readily available and is not in dispute. The market mechanism is reflecting what our leaders ignore. The start of the Industrial Revolution allowed us to make technological progress in delivering resources, outweighing the increasing marginal effort to dig ever deeper and chase lower-quality ores, for instance. The average price of 33 commodities (equally weighted) declined by 70 per cent (after inflation) between 1900 and 2002. Then, abruptly and without any particular crisis, prices reversed and in ten years the average commodity tripled to give back the advantage of the previous 100 years. It is perhaps the most important “phase” change of modern times, yet it attracted remarkably little concern.

The causes are not hidden: there has been an explosion of both population and consumption since 1800, the advent of the Hydrocarbon Age. Global population increased from one billion to seven billion today, tripling even in mylifetime (I was born in 1938). In the same time, consumption of hydrocarbons and some metals increased one hundredfold. Initially, with few people and extensive high-grade resources, this did not show in prices, but more recently, with population still growing faster than ever in absolute terms, we have had to absorb an unprecedented surge in demand per capita from India, with its 1.2 billion people and growing at over 7 per cent a year, and China, with almost 1.3 billion and growing for over 20 years at 10 per cent a year – a rate that will double consumption every seven years. China last year accounted for an astonishing 53 per cent of all the world’s cement use, 48 per cent of its iron ore and 47 per cent of all the coal used. How could the best reserves not wither away under this attack, and prices not rise?

Low-cost, high-grade coal, oil and natural gas – the backbone of the Industrial Revolution – will be a distant memory by 2050. Much higher cost remnants will still be available but they will not be able to drive our growth, our population and, most critically, our food supply as before. Conventional food production (let’s call it “Big Ag”) is desperately dependent on oil for insecticide, pesticide and fertiliser, and for transportation over thousands of miles. Modern agriculture has been accurately described as a way of turning oil into food. As the price of oil continues to rise, so will the price of food.

It will take particularly difficult political decisions to survive the loss of depleted hydrocarbons without risking economic collapse: we must find the capital, while we still have it, to build very large-scale, very smart electricity grids, across Europe and North America, fed by increasingly efficient wind and solar power and other renewables that may be developed. Once they are built, the marginal operating cost will be much lower than for our present hydrocarbon-dependent system and, critically, cost will be constantly falling while hydrocarbon costs rise. Countries that move early will have an increasing cost advantage. Such a move would also lower the output of industrial wastes, importantly CO2. It will be seen as a great threat to the giant hydrocarbon multinationals, several of which fund well-organised obfuscation and propaganda campaigns to reinforce our wishful thinking. CO2 has lost its greenhouse effect, they imply, and coal is clean! In the US, even larger investments are made: Congress is bribed (legally) to ignore both climate science and the logic of finite resources.

Destructive friction

Metal resources are the stuff of nightmares because entropy is merciless. Every time you use a metal, some is lost. European countries recycle between 40 and 80 per cent – the US is worse – yet even at 90 per cent these precious resources will slip through our fingers. Ultimate care and frugality in the use of metals is needed, because even an economy with zero increase in physical output will slowly lose its metals. Waste will hurry the scarcity along. Real prices will rise, either slowly if we are well-behaved or quickly if we are not. It’s our choice. But which politician, economist or NGO has the nerve to talk about the necessary zero growth in population – that most politically incorrect of all subjects – and in physical output?

The most immediately threatening shortage is in our food supply, and not just from oil constraints. The bigger threats lie in four limiting inputs: water, soil, potassium and phosphorus. We build homes and grow food in deserts and over-pump irreplaceable underground water. (Already, about 300 million Indians and Chinese, among others, are fed by over-pumping reserves that will inevitably run out.) We waste over half our global water and we totally misprice the resource. For most countries, all of this can be fixed. Yet some overpopulated, poor nations have a more intractable problem and water scarcity will cause increasing friction for them and, no doubt, wars before long.

Land availability and erosion are also limiting our ability to grow food. Over the millennia, we have lost perhaps one-third of our land, turning it into desert and stone. We build new cities on our best river valley soil, which is replaceable only with more marginal land. There are no New Worlds or new Midwests. The land we have – eroded by wind and water – loses 1 per cent of its soil each year, about 100 times the rate of than natural replacement. If sustained, this erosion would bring our species to its knees but the problem can be solved relatively easily by moving towards no-till, in which crop residues protect the soil against the elements. We need to move rapidly, though: to 100 per cent from less than 10 per cent globally today.

The limits on phosphorus (phosphate) and potassium (potash) are potentially terminal. These resources are elements. They cannot be made. There is no substitute for them. They are vital for the growth of all living things, vegetable or animal (we human beings are 1 per cent phosphorus by body weight). And these irreplaceable nutrients on which modern agriculture depends are mined and are steadily depleting. This set of statements always makes my hair prickle. It also prompts the question – what will happen when the reserves run out? There is a great deal of phosphorus, by resource standards, perhaps 200 years with modest growth, but Morocco owns 85 per cent of the lot, far more than Opec does of oil. And time flies.

The glimmer of hope here would be if the world were to adopt “organic” farming – nurturing the soil with worms, fungi and complex micro-organisms and avoiding use of insecticides and pesticides. Organic farming extends critical fertiliser resources many times, perhaps at best approaching the rate of natural replacement from bedrock. However, organic farming today is less than 1 per cent of the agricultural total, and we will typically wait for a greater crisis in fertiliser prices before we move.

Finally, global warming’s most reliable consequence is weather instability – droughts and floods, which have been badly hurting production and may continue to do so. The actual rise in temperature is unlikely seriously to affect output for several decades as farmers adjust, but, according to estimates, grain output will fall between one-third and two-thirds later this century as temperatures are reached with which grains cannot deal. In the past, such estimates, far from being alarmist, have consistently under-predicted the speed of environmental developments. Scientists, with a few brave outspoken exceptions, are fearful of being criticised as exaggerators – a terrible academic crime – even though underestimating, in this rare case, is far more dangerous. (The melting of Arctic ice is already at levels that 15 years ago were predicted for 2050.)

oth population and yield per acre for grains are growing at the same 1.2 per cent a year. A stand-off? Yes, population growth will slow, but so will productivity as we approach the limits of each grain species, just as racehorses, bred for 5,000 years, are no faster than they were in the 1920s. How, with no safety margin, will we find the extra grain necessary to produce meat for the growing middle class of developing countries when a single pound of dressed beef displaces 30lb of grain? (An irony is that, even as the average calorific intake in India falls, the number of their rich is growing rapidly.)

There will be a single, painful answer to all of these questions – rationing through price. We the rich countries can and will be careless with our resources for decades longer, but only at the cost of pushing prices up unnecessarily fast and thereby inadvertently forcing the poorer countries into malnutrition and outright starvation. A typical developed country now spends 10 per cent of its income on food; Egypt spends 40 per cent. You can easily see that, if food prices triple again in the next 30 years as they did in the past ten, the numbers will not compute. A growth-reducing irritant for us will become life and death for them.

Greater income equality in such countries and better education, especially for women, would help lower population growth and increase productivity. Less corruption and more efficient distribution of the food available, especially in India, would buy decades of time. But this is who we are: a species given to corruption, incompetence and self-interest. Capitalism believes that its remit is exclusively to make maximum short-term profits.

We could solve all our problems if only we were the efficient, rational human beings of standard economic theory and had politicians willing to think in the long-term interest of their people rather than their own. Perhaps later, as the crisis grows, as failing states threaten to destabilise global politics (resource pricing already played a part in the rab spring) and China throws its increasing weight around in its correctly perceived great need for more resources, the developed world will act with resolve, as the US, the UK and others did so well in the Second World War. We must hope so.

Shoot the messenger

Fortress North America, for surely that is what it will become, with (per capita) five times the water and seven times the arable land of China, has the capability and current willingness to ignore this global problem for a while, yet eventually it, too, will be dragged kicking and screaming into world turmoil, just as it feared would happen in the 1930s.

In the meantime, countries such as Egypt, with surging populations and food import bills that cause widening trade deficits, cannot afford to feed their people. Who will do it for them? We rich countries cannot even make the tough political decisions required to keep our own resource prices down, let alone worry about others. This attitude is epitomised by the use of one-third of the US corn crop (the world’s biggest) for desperately inefficient ethanol production as a subsidy for already rich farmers. To fill a 4x4’s tank once would displace enough maize to feed one Indian farmer for one year.

One day this will be seen as the moral equivalent of shooting some of the world’s poorest. But more painful.

Jeremy Grantham is a British investor and is the co-founder and chief investment strategist of Grantham, Mayo, Van Otterloo (GMO)

Jeremy Grantham is Co-founder and Chief Investment Strategist of Grantham Mayo Van Otterloo (GMO), one of the world's largest asset management firms.